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3 Demand, Supply, and Market Equilibrium McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved. Markets • Any institution where buyers and • LO1 sellers interact – Buyers = Demanders – Sellers = Suppliers Price is determined in the interactions of buyers and sellers Demand • Schedule or curve • Amount consumers are willing and • • LO1 able to purchase at a given price Other things equal Market demand Law of Demand • Other things equal, as price falls, quantity demanded rises, and as price rises, quantity demanded falls. • Reasons: • Common sense • Law of diminishing marginal utility • Income effect and substitution effects LO1 Determinants of Demand • Factors other than price • Usually assumed to be constant • When a determinant changes, demand shifts LO1 Demand vs. Quantity Demanded • Change in demand • Refers to shift of entire demand • LO2 curve to left or right Cause: Change in determinants of demand Determinants of Demand 1) Change in buyer’s tastes 2) Change in number of buyers 3) Change in income • Normal Goods • Inferior Goods LO1 Determinants of Demand 4) Change in prices of related goods • Complements • Substitutes • Chris Rock 4a) Unrelated goods LO1 Determinants of Demand 5) Change in consumers’ expectations • Future prices • Future income • Future product availability LO1 Demand vs. Quantity Demanded • Change in demand • Refers to shift of entire demand • LO2 curve to left or right Cause: Change in determinants of demand Demand vs. Quantity Demanded • Change in quantity demanded • Refers to movement from one point • LO2 to another on fixed demand curve Cause: Change in price of good under consideration Supply • Schedule or curve • Amount producers are willing and • • LO2 able to sell at a given price Other things equal Market supply Law of Supply • Other things equal, as price rises • LO2 quantity supplied rises and as price falls quantity supplied falls. Reason: • Higher prices act as an incentive to producers • At some point costs will rise Determinants of Supply • Factors other than price • Usually assumed to be constant • When a determinant changes, supply shifts LO1 Determinants of Supply 1. A change in resource prices 2. A change in technology LO2 Computer-Aided Design and Manufacturing • Computer-Aided Design (CAD) -- The use of computers in the design of products. • Computer-Aided Manufacturing (CAM) -The use of computers in the manufacturing of products. McGraw-Hill/Irwin McGraw-Hill/Irwin Understanding Business, Understanding Business, 7/e 7/e 9-16 © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. Flexible Manufacturing • Flexible Manufacturing -- Designing machines to do multiple tasks so they can produce a variety of products. McGraw-Hill/Irwin McGraw-Hill/Irwin Understanding Business, Understanding Business, 7/e 7/e 9-17 © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. Determinants of Supply 3. A change in taxes and subsidies 4. A change in prices of other goods 5. A change in producer expectations 6. A change in the number of sellers LO2 Supply vs. Quantity Supplied • Change in supply • Refers to shift of entire supply curve • LO2 to left or right Cause: Change in determinants of supply Supply vs. Quantity Supplied • Change in quantity supplied • Refers to movement from one point • LO2 to another on fixed supply curve Cause: Change in price of good under consideration Equilibrium Point High Market Equilibrium Price S Low D Quantity High 2-21 McGraw-Hill/Irwin Understanding Business, 7/e © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. Market Shortage • Occurs when current price is too low • Quantity demanded exceeds quantity • LO3 supplied at the current price Current price will rise. Equilibrium Point High Market Equilibrium Price S Low Shortage Quantity D High 2-23 McGraw-Hill/Irwin Understanding Business, 7/e © 2005 The McGraw-Hill Companies, Inc., All Rights Reserved. Market Surplus • Occurs when current price is too high • Quantity supplied exceeds quantity • LO3 demanded at the current price Current price will fall Market Equilibrium • Price which equates quantity • • LO3 demanded and quantity supplied No reason for price to change Crisis Efficient Allocation • Productive efficiency • Producing goods in the least costly way • Using the best technology • Using the right mix of resources • Allocative efficiency • Producing the right mix of goods • The combination of goods most highly valued by society LO4 Market Equilibrium 6 5 Qd $5 2000 4 4000 3 7000 2 11,000 1 16,000 Price (per bushel) P 6,000 bushel surplus S 4 3 2 7,000 bushel shortage 1 0 2 4 67 8 10 D 12 14 16 Bushels of corn (thousands per week) LO4 18 P Qs $5 12,000 4 10,000 3 7000 2 4000 1 1000 Rationing Function of Prices • The ability of the competitive forces of demand and supply to establish a price at which selling and buying decisions are consistent LO4 Changes in Demand and Equilibrium D increase: P, Q D decrease: P, Q P P S S D2 D3 D1 0 0 Increase in demand LO5 D4 Decrease in demand Changes in Supply and Equilibrium S increase: P, Q S decrease: P, Q P P S1 S4 S2 D D 0 0 Increase in supply LO5 S3 Decrease in supply Complex Cases Effects of Changes in Both Supply and Demand Change in Supply Change in Demand Effect on Equilibrium Price Effect on Equilibrium Quantity 1. Increase Decrease Decrease Indeterminate 2. Decrease Increase Increase Indeterminate 3. Increase Increase Indeterminate Increase 4. Decrease Decrease Indeterminate Decrease LO5
